Internet telephony

Vonage unwanted

An embarrassing share-offering in a promising market

IN 2003 Jeffrey Citron, a former broker, paid $22.5m in penalties to settle allegations of fraud and agreed never to work in the securities industry again. He then turned his attention to his next big thing—making phone calls over the internet. He launched Vonage, a company in New Jersey that has since become almost synonymous in America with the term VOIP (for “voice over internet protocol”). Spending oodles on marketing, Mr Citron has persuaded 1.6m Americans to ditch their land-line telephone company. In the American VOIP industry—which has 5.5m subscribers now, but should have 24m by 2010, according to TeleGeography, a research firm—Vonage is the leader.

That did not count for much on May 24th, when Vonage made the worst stockmarket debut by an American technology firm in two years, offering new shares worth $531m in total, which dropped 13% by day's end. There had been signs of desperation in the preceding weeks—such as a plea to customers to take up 13.5% of the new shares—but a belly flop of these proportions was surprising. Is VOIP over-hyped?

Actually, making calls over the internet is proving more popular than even geeks once predicted. Unfortunately for Vonage, however, this has meant that established firms are fighting much harder than expected to move into VOIP themselves. America's cable companies now offer cheap bundles of broadband internet access (a requirement for online telephony, but one that Vonage does not offer), VOIP and television. The telecoms incumbents are responding with similar bundles—ie, broadband, VOIP and IPTV, or “internet-protocol television”.

And there is even stronger competition. Vonage and the giants are in fact offering a compromised form of internet calling. Customers get a clunky box that plugs into a normal telephone at one end and a broadband modem at the other; calls are cheaper, but not free. Pure internet calling, by contrast, involves software that lets computers talk to other computers completely free, has superior voice quality and offers lots of other fun, like instant-messaging. The best-known example is Skype, based in Estonia, though Google, Yahoo!, AOL and Microsoft offer similar services.

Which may explain why Mr Citron was in a hurry. Skype sold itself to eBay for $2.6 billion last year. This month Skype offered its users free calls from their computers to ordinary phones in North America, a snub to Vonage. Mr Citron, who could not find a corporate buyer, forged ahead with an IPO, setting the price at $17 a share, which valued Vonage at a sliver more than Skype. The market did not agree.